In choppy forex markets, algos buck expectations

Goldman, Nomura and others report increased volumes, although some clients revert to principal quotes


Algorithmic execution of spot foreign exchange has increased as the spreading coronavirus has roiled markets in recent weeks – a surprise considering algo usage was widely tipped to decline in choppier trading conditions.

“We’ve seen an enormous pick-up in use of algos in recent weeks,” says Ralf Donner, head of fixed income, currencies and commodities execution solutions at Goldman Sachs. He puts the increase at around 50%.

Clients that use forex algos take the execution risk of the transaction themselves – they pay to rent the algorithm, which will execute an order over minutes or hours – and may end up with a worse all-in price than would be offered by a dealer’s principal traders. During the two-year volatility drought leading up to late February, algo methods flourished, but the expectation among many market participants was this activity would dwindle when volatility returned.

Goldman, Nomura, and at least two other dealers say the opposite has been true.

“Certainly it seems the methods were tried and tested during quieter times and found to work,” says Goldman’s Donner. “I think clients have given it the benefit of the doubt and continued using it, especially as they now have – in some cases – even larger size to trade than they did in normal market conditions.”

Another major US dealer reports seeing the highest-ever weekly volume from its forex algo clients during the week of March 9. A large UK dealer also claims to have seen an uptick in clients using forex algos in recent days and weeks as volatility has climbed.

New clients and old

Ian Daniels, head of e-FX distribution for Europe, the Middle East and Africa at Nomura, says the bank is experiencing a marked rise in algo flows: “Today [March 9] was a very busy day. By 8:30 am this morning we had already seen a normal day’s worth of volumes,” he says.

He notes that some clients may be getting pickier about the type of business they execute via algo: “Ultimately, it’s still relatively easy to get stuff done electronically, it’s just a case that the risk parameters might be different and so the conditions under which traders will engage in electronic business will narrow.”

Goldman Sachs’ Donner says the growth in volume is attributable to a mix of brand-new clients who have never used algos before, as well as bigger orders from clients who are traditional users of the product. This is across the full spectrum of currency pairs, not just in G10, he says, and includes non-deliverable forwards. Goldman is among a handful of dealers to offer an NDF algo.

Clients might have a regime where above a certain notional size they’re more likely to look at an algo as a potential execution mechanism
Ralf Donner, Goldman Sachs

Another factor driving the increase in volumes is the volatility seen in equity and fixed income markets, Donner adds. Increased activity in foreign currency assets requires the trading of more forex and at larger sizes, which clients push through algos in order to get the business done with less fuss.

“Clients might have a regime where above a certain notional size they’re more likely to look at an algo as a potential execution mechanism,” he says.

Not all clients have ramped up algo activity. A trader at one US insurer says he’s avoided algos as volatility has spiked.

“Algos are good for calm markets where you have a good sense of bounds but, when the markets start to go a little crazy, we turn away from the algos and evaluate every trade a little more carefully,” he says.

Pete Eggleston
Pete Eggleston

A third US bank’s forex head says his firm have seen “normal” algo volumes, with a greater uptick in trading on the principal side. A forex head at one liquidity provider says a pick-up in principal voice trading makes a lot of sense, as people may be warier of algos during periods of high volatility.

“If there’s a lot of volatility or if I’ve got a big trade to do, I prefer to call a trader to do one block of trading versus going via an algo. One of the key functions of an algo is executing a trade over time, but with lots of volatility it becomes harder to make that strategy work,” he says.

Pete Eggleston, co-founder of BestX, a firm that tracks the performance of forex algos, says a key measure of algos is how much they move the market when they’re working a trade. BestX measures at different time periods, from milliseconds to minutes, while paying particular focus on the 30-second point after execution.

He says that by this measure, in the current period of higher volatility, algos have performed worse than usual. “Overall, we have seen that algos have generally created slightly more market impact [this month] compared to the previous month, other than those that fall within the opportunistic style,” says Eggleston. Opportunistic algos seek to maximise spread retention with no strict time schedule.

Editing by Alex Krohn

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